Microring Limited v The Commissioners For HMRC

Mr Ram’s witness statement described his business background as follows: he studied jewellery at art college; in the 1970s he worked in a workshop making edible gold foils; the company he worked for was a large gold bullion dealer; Mr Ram said this gave him an understanding of the wholesale bullion market.

In oral evidence, Mr Ram said that he and his brother ran the Micro business together; that they opened the shop in Kingsbury in mid 1980s; that they did manufacturing at the back of the shop; that they imported jewellery and on-sold to well-known high street retail chains.

As to the commerciality of the purchases and onward sales, Mr Ram’s witness statement made the point that silver is tested, and the price is determined on its purity at the specific time of sale. Mr Ram said that the prices at which Micro bought silver in the purchases reflected the market price at the time.

In cross examination, Mr Ram said that someone at Fowler Oldfield Ltd tested the silver for quality; they also “refined” the silver. He accepted that he never saw the goods; they were transferred from Micro’s suppler to its customer, directly, he said. When asked what the point was of Micro’s being in the supply chain, Mr Ram replied that Micro had an “account” at Fowler Oldfield Ltd (whereas the companies selling to Micro did not). When asked why a company wishing to sell silver would not just open its own such “account”, Mr Ram said that Fowler Oldfield Ltd would not open accounts for just “anyone”.

In re-examination, Mr Ram clarified the following points in his evidence:

HMRC’s counsel objected to the evidence summarised at [21(2)] above being “admitted” because the point about Oldfield Fowler Ltd having “accounts”, and being a “refiner” of silver, had not been mentioned in Mr Ram’s witness statement (and it was therefore contrary to the procedural rules of the Tribunal (and principles of evidence more broadly) for this evidence to come up for the first time in re-examination). We do not agree. These points had surfaced in answers to questions put to Mr Ram by HMRC’s counsel in cross examination. Obvious questions and clarifications related to these points had, to our minds, been left “hanging” in the course of cross examination, without the natural follow-up questions which would allow the Tribunal to understand what Mr Ram was trying to say. The re-examination questions assisted the Tribunal in this respect. There was no unfairness to HMRC: it is a hazard of cross examination that the witness says things, in answer to the questions, that the questioner was not expecting, and which may be “new” information; if that information requires common-sensical further questioning (to understand what the witness was intending to say), then that, clearly, must be done. To leave things in a state of muddle, because the witness answers the question in a way the questioner wasn’t expecting and introduces “new” information, would clearly be contrary to both fairness and justice, and would do disservice to the Tribunal in its fact-finding role. (In any case, the point about Micro having “accounts” in other companies was not new – it had come up in HMRC’s note of the meeting with Micro on 3 May 2016). The Tribunal ruled on this point in the course of the hearing and gave HMRC a fair opportunity to ask further questions arising upon the re-examination, if they wished. (HMRC raised similar objections to the evidence summarised at [21(1) and (3)] above, and [18] above, but the former was, quite clearly, simply clarification or repetition of evidence given in Mr Ram’s witness statement; and the latter, being general background information, is to our mind self-evidently fair and just to “admit”, and certainly cannot be said to raise any material point of concern or “prejudice” for HMRC).

What we make of the evidence that emerged in Mr Ram’s oral evidence, and what weight we put on it, is of course a different question, and one to which we return in the “Discussion” section below.

Referring to HMRC’s letter of 8 May 2013, and its Annexe A about MTIC fraud, Mr Ram’s witness statement said that Micro had “no idea what HMRC was talking about”; referring to the reference in the Annexe to MTIC fraud typically involving ‘high value low volume’ commodities such as mobile phone and computer chips imported VAT-free from EU member states, Mr Ram said that Micro thought this letter was confined to the trades mentioned in the letter. Mr Ram also quoted from Annexe B to the letter (the process for validating VAT details of new or potential customers or suppliers) and said that Micro followed that process: Mr Ram referred to Micro having followed Officer Shah’s “instructions”.

Mr Ram’s witness statement said that, in respect of the purchases, Micro sought confirmation of the supplier’s VAT registration number, obtained a copy of its certificate of incorporation, obtained identification from its directors, and carried out “VIES” checks (VAT number verification provided by the European Commission), and Companies House checks. Mr Ram also said that Micro asked its suppliers to fill in a “trade application” form that asked for “trade references”. We had no evidence of any such references actually being taken.

Mr Ram said in his witness statement that Micro had no reason to believe that the information and documents given to it by the companies from which the purchases were made was “insufficient to verify [each of those companies’] VAT registration number that was issued to them by HMRC”.

Notice 726 was a 19-page document issued by HMRC, entitled Joint and several liability for unpaid VAT. The introduction said that the notice explained how you could be made jointly and severally liable for the unpaid VAT of another VAT-registered business when you buy and/or sell specified goods. The goods specified included electronic equipment made or adapted for use by individuals for the purposes of leisure, amusement or entertainment and any other equipment made or adapted for use in connection with any such electronic equipment. It explained that the rules it described were introduced to tackle VAT fraud, a “virulent” form of which was MTIC fraud. It then said:

“MTIC fraud is a systematic criminal attack on the VAT system detected in many EU member States. In its simplest form, the fraud involves a fraudster obtaining a VAT registration number in the UK for the purposes of purchasing goods free from VAT in another EU member State, selling them at a VAT inclusive purchase price in the UK and then not paying the output tax due to HMRC. The goods are then sold through a number of UK businesses and finally sold outside the UK free from VAT. The final UK business claims a VAT repayment from HMRC that, if paid, crystallises the loss at the start of the UK supply chain.

This type of fraud relies heavily on the ability of fraudulent businesses to sell goods or services to other businesses that are complicit in the fraud, prepared to turn a blind eye, or not sufficiently circumspect about their trading connections. Such action fuels the growth of the fraud. These rules remove the attraction of financial gain.”

In section 4, the notice said it contained examples of reasonable steps you can take to establish the integrity of your customers, suppliers and supplies, to help you avoid being unwittingly caught up in a supply chain where VAT goes unpaid. It then said:

“It is good commercial practice for businesses to carry out checks to establish the credibility and legitimacy of their customers, suppliers and supplies. These checks will need to be more extensive in business sectors that are commercially risky or vulnerable to fraud and other criminality.

Such checks will also assist you to avoid being involved in supply chains linked to the theft of VAT and the possibility of becoming jointly and severally liable for VAT unpaid elsewhere in your supply chain.

HMRC does not expect you to go beyond what is reasonable. However, HMRC would expect you to make a judgement on the integrity of your supply chain and the suppliers, customers and goods within it.

Factors you may wish to consider include:

• The type and level of checks you carry out to establish the integrity of the supply chain and the action you take as a consequence of those checks;

• The nature of the supply;

• Payment arrangements and conditions; and

• Details of the movement of goods involved.

You can find examples of checks at section 6.”

Extracts from section 6 of the notice are set out in the appendix to this decision.

HMRC’s evidence had the following information about Fowler Oldfield Ltd and its business: its trading address was in Bradford; from 2013, it was in the business of trading in precious metals; a director told VAT officers in 2014 that silver was melted, manufactured and refined on its premises; HMRC suspected that it was involved in supply chains connected with fraudulent VAT evasion; Kittel assessments were raised in 2016; in September 2016 its premises in Bradford were raided by police on suspicion of money laundering; it was placed in liquidation in October 2016.

The European court (the “CJEU”), in its judgment dated 6 July 2006 in Axel Kittel v Belgium State, Belgium State v Recolta Recycling SPRL C- 439/04 & C-440/04, held that taxable persons who “knew or should have known” that the supplies in which input tax was incurred were connected with the fraudulent evasion of VAT would not be entitled to claim a credit in respect of that input tax. In particular, at [51] and [56], the CJEU, whilst reiterating that “traders who take every precaution which could reasonably be required of them to ensure that their transactions are not connected with fraud, be it fraudulent evasion of VAT or other fraud” should not lose their right to a credit for the input tax in relation to supplies associated with fraud, stated that “a taxable person who knew or should have known that, by his purchase, he was taking part in a transaction connected with fraudulent evasion of VAT must, for the purposes of the [VAT directive], be regarded as a participant in that fraud, irrespective of whether or not he profited by the resale of the goods.”

The rationale for the above approach was set out at [57] and [58], where the CJEU noted the following:

At [59] the CJEU concluded that “it is for the referring court to refuse entitlement to the right to deduct where it is ascertained, having regard to objective factors, that the taxable person knew or should have known that, by his purchase, he was participating in a transaction connected with fraudulent evasion of VAT, and to do so even where the transaction in question meets the objective criteria which form the basis of the concepts of 'supply of goods effected by a taxable person acting as such' and 'economic activity'.”

At [61] the CJEU reiterated that, “where it is ascertained, having regard to objective factors, that the supply is to a taxable person who knew or should have known that, by his purchase, he was participating in a transaction connected with fraudulent evasion of VAT, it is for the national court to refuse that taxable person entitlement to the right to deduct.”

The parties agreed that, in relation to Kittel denials of input tax deduction, the test for the Tribunal to apply is:

The parties were also in agreement, by the end of the hearing, that the only issue for determination by the Tribunal in this appeal was (4) above.

The issues to which Kittel gave rise were addressed in the UK context by the Court of Appeal in Mobilx Limited (in Liquidation) v HMRC [2010] EWCA Civ 517. At [52], Moses LJ said as follows in relation to the “should have known” part of the Kittel test:

“If a taxpayer has the means at his disposal of knowing that by his purchase he is participating in a transaction connected with fraudulent evasion of VAT he loses his right to deduct, not as a penalty for negligence, but because the objective criteria for the scope of that right are not met. It profits nothing to contend that, in domestic law, complicity in fraud denotes a more culpable state of mind than carelessness, in the light of the principle in Kittel. A trader who fails to deploy means of knowledge available to him does not satisfy the objective criteria which must be met before his right to deduct arises.”

At [53] to [60] Moses LJ addressed the extent of knowledge required. He observed that it would offend the principle of legal certainty to deny input tax credit on the grounds that the relevant taxpayer knew or should have known that it was more likely than not that the supplies in question were connected with fraud. Instead, such denial could be made only if the relevant taxpayer knew or should have known that the supplies in question were connected with fraud:

“[56] … A trader who knows or could have known no more than that there was a risk of fraud will find it difficult to gauge the extent of the risk; nor will he be able to foresee whether the circumstances are such that it will be asserted against him that the risk of fraud was so great that he should not have entered into the transaction. In short, he will not be in a position to know before he enters into the transaction that, if he does so, he will not be entitled to deduct input VAT. The principle of legal certainty will be infringed.

[56] It must be remembered that the approach of the court in Kittel was to enlarge the category of participants. A trader who should have known that he was running the risk that by his purchase he might be taking part in a transaction connected with fraudulent evasion of VAT, cannot be regarded as a participant in that fraud. The highest it could be put is that he was running the risk that he might be a participant. That is not the approach of the court in Kittel, nor is it the language it used. In those circumstances, I am of the view that it must be established that the trader knew or should have known that by his purchase he was taking part in such a transaction …”

At [59-60] Moses LJ observed that:

“[59] The test in Kittel is simple and should not be over-refined, it embraces not only those who know of the connection but those who “should have known”. Thus it includes those who should have known from the circumstances which surround their transactions that they were connected to fraudulent evasion. If a trader should have known that the only reasonable explanation for the transaction in which he was involved was that it was connected with fraud and if it turns out that the transaction was connected with fraudulent evasion of VAT then he should have known of that fact. He may properly be regarded as a participant for the reasons explained in Kittel.

[60] The true principle to be derived from Kittel does not extend to circumstances in which a taxable person should have known that by his purchase it was more likely than not that his transaction was connected with fraudulent evasion. But a trader may be regarded as a participant where he should have known that the only reasonable explanation for the circumstances in which his purchase took place was that it was a transaction connected with such fraudulent evasion.”

At [61] Moses LJ said the following about legal certainty:

“A trader who decides to participate in a transaction connected to fraudulent evasion, despite knowledge of that connection, is making an informed choice; he knows where he stands and knows before he enters into the transaction that if found out, he will not be entitled to deduct input tax. The extension of that principle to a taxable person who has the means of knowledge but chooses not to deploy it, similarly, does not infringe that principle. If he has the means of knowledge available and chooses not to deploy it he knows that, if found out, he will not be entitled to deduct. If he chooses to ignore obvious inferences from the facts and circumstances in which he has been trading, he will not be entitled to deduct.”

At [64] Moses LJ reiterated that, “[if] it is established that a trader should have known that by his purchase there was no reasonable explanation for the circumstances in which the transaction was undertaken other than that it was connected with fraud then such a trader was directly and knowingly involved in fraudulent evasion of VAT”.

At [74-75] Moses LJ referred to a tribunal’s “undue focus” on whether a company director had “exercised due diligence or done ‘enough to protect himself’”. Moses LJ then stated: “That is not the only question. The ultimate question is not whether the trader exercised due diligence but rather whether he should have known that the only reasonable explanation for the circumstances in which his transaction took place was that it was connected to fraudulent evasion of VAT.”

At [81] and [82] Moses LJ noted that the burden of proof in such cases is on HMRC but made it clear that that “is far from saying that the surrounding circumstances cannot establish sufficient knowledge to treat the trader as a participant …tribunals should not unduly focus on the question whether a trader has acted with due diligence. Even if a trader has asked appropriate questions, he is not entitled to ignore the circumstances in which his transactions take place if the only reasonable explanation for them is that his transactions have been or will be connected to fraud. The danger in focussing on the question of due diligence is that it may deflect a tribunal from asking the essential question posed in Kittel, namely, whether the trader should have known that by his purchase he was taking part in a transaction connected with fraudulent evasion of VAT. The circumstances may well establish that he was.”

In considering the “should have known” test, the Court of Appeal (Arden LJ) in Davis & Dann Ltd & Anor v HMRC [2016] EWCA Civ 142 said that the tribunal must guard against over compartmentalisation of the factors, rather than the consideration of the totality of the evidence. The court said the Tribunal is not restricted from relying on any circumstance which is capable of being probative of knowledge to the no other reasonable explanation standard. It was not correct to argue that, simply because there was no allegation that X was a party to a scheme to defraud, no circumstance surrounding X could be a circumstance, which, when added together with other circumstances, should have led HMRC to conclude there was a connection with fraud. Arden J then cited the last sentence of [52] of Mobilx (concerning a trader who fails to deploy means of knowledge available to him) and observed that a taxpayer may have knowledge to the “only reasonable explanation” standard if he fails to make inquiries.

In AC (Wholesale) Ltd v HMRC [2017] UKUT 191 (TCC) the Upper Tribunal decided that the ‘should have known’ test did not require HMRC to eliminate all other possible reasonable explanations in order to establish, as required by Mobilx, that the only reasonable explanation for the transactions was that they were connected to fraud. It added (at [30]):

“Of course, we accept (as, we understand, does HMRC) that where the appellant asserts that there is an explanation (or several explanations) for the circumstances of a transaction other than a connection with fraud then it may be necessary for HMRC to show that the only reasonable explanation was fraud. As is clear from Davis & Dann, the FTT’s task in such a case is to have regard to all the circumstances, both individually and cumulatively, and then decide whether HMRC have proved that the appellant should have known of the connection with fraud. In assessing the overall picture, the FTT may consider whether the only reasonable conclusion was that the purchases were connected with fraud. Whether the circumstances of the transactions can reasonably be regarded as having an explanation other than a connection with fraud or the existence of such a connection is the only reasonable explanation is a question of fact and evaluation that must be decided on the evidence in the particular case. It does not make the elimination of all possible explanations the test which remains, simply, did the person claiming the right to deduct input tax know that, by his purchase, he was participating in a transaction connected with fraudulent evasion of VAT or should he have known of such a connection.”

HMRC argued that the purchases were part of an overall scheme to defraud the revenue, since:

HMRC argued in the alternative that Micro should have known that the purchases were connected with fraudulent VAT evasion.

HMRC submitted that there were “vast gaps” in the evidence called by Micro as to the nature of its business and the knowledge of those involved in the purchases and onward sales of the goods; HMRC sought “adverse inferences” from these “failures”.

Micro’s skeleton argument for the hearing was on the basis that HMRC had failed to discharge the burden of proof. Intertwined with this argument were submissions critical of HMRC for not producing, as part of their evidence, certain material provided to them by Micro in the course of HMRC’s investigations, such as sales invoices, banking evidence of movement of funds, and Micro’s “due diligence” material. Micro (rightly) accepted that, in accordance with the case management directions leading up to the hearing, it was for HMRC to provide the documents on which they chose to rely (and for Micro to do this same); but Micro submitted that it was difficult to see how HMRC could discharge the burden of proof, without producing invoices, bank statements, and “due diligence” material that had been provided to them by Micro.

In closing submissions, Micro submitted that there was documentary evidence to support Mr Ram’s oral evidence about Fowler Oldfield Ltd being a “refiner” of silver. Micro’s counsel drew attention to the fact that invoices and other such documents in relation to purchases 9 and 10 (from Quality Engines Direct Ltd) were included in the evidence HMRC provided to the Tribunal; and to the fact that

Micro submitted that the evidence just cited corroborated Mr Ram’s oral evidence that Micro had an “account” at Fowler Oldfield Ltd and that Fowler Oldfield Ltd performed the service of “refining” the silver that was the subject matter of the purchases.

Micro submitted, based on Mr Ram’s oral evidence, that the commercial reason for Micro’s being in the chain of supply was that Micro had an “account” at Fowler Oldfield Ltd (whereas the companies selling to it, in the purchases, did not).

Both Mr Ram’s witness statement, and Micro’s skeleton argument for the hearing, complained of prejudice to Micro due to the inability to cross examine Officer Shah, who was responsible for the input tax denials that were the subject matter of the appeal. During the hearing, Micro’s counsel did not pursue this point, and rightly so: the appeal was not about the conduct of the investigation by HMRC, or the opinions of a particular HMRC officer, but about whether the input tax denial was correct in law and, in particular (given the honing of the issues via the Fairford directions and the process of the hearing), Micro’s state of knowledge at the relevant time, and the evidence of that; and Micro had been at liberty to put forward evidence (as indeed it did) on that matter.

We do not accept the argument that HMRC failed to discharge the burden of proof in this appeal. Even if we confine our inquiry to evidence produced by HMRC themselves (as if, notionally, we were considering an application to debar HMRC, at a point in the proceedings when HMRC had provided their evidence, but Micro had not provided its), it seems to us that this clearly supported a prima facie case that Micro knew or should have known that the purchases were connected with fraudulent VAT evasion. In our view, the key evidence put forward by HMRC in this regard was

If (as we think is more appropriate) we widen the inquiry (as to whether HMRC discharged the burden of proof) to all the evidence that was before the Tribunal, including that put forward by Micro – most importantly, to include Mr Ram’s evidence – then it is all the more clear to us that this is not a case where there has been a failure to discharge the “burden of proof”: we have sufficient evidence to determine this appeal fairly and justly; and, as will become evident in the sub-section that follows on Micro’s state of knowledge, this is not a case where the evidence is so finely balanced that we have to fall back on the “burden of proof” in order to decide which party prevails.

The answer to Micro’s complaint that HMRC did not produce all the materials that Micro sent to them during the investigation, is a simple one: it was for Micro, a party that was legally represented throughout, to produce those materials to the Tribunal, if it wished to rely on them.

The only issue for determination by the Tribunal is whether Micro knew, or should have known, of the connection of the purchases to fraudulent VAT evasion. We find it efficient, in this case, to start with the question of whether Micro ‘should have known’. In that regard, the guidance of the higher courts is to consider whether connection with fraudulent VAT evasion was the only reasonable explanation for the circumstances in which the purchases took place.

In this sections we make findings about the relevant circumstances in which the purchases took place.

We find that:

There was no overlap, in realistic business terms, between (1) the purchases (and onward sales) and (2) Micro’s principal business as a high street jewellers: the counterparties involved were entirely different, and the purchases/onward sales did not call on Mr Ram’s expertise and experience as a trained jeweller and someone who ran a retail jewellers shop. The purchases/onward sales were a different line of business, in which Micro had started to get involved two or three years before the purchases occurred. The fact that Micro occasionally found itself with scrap silver to sell (as a result of its retail jewellery business), or that Mr Ram was somewhat aware of the wholesale silver trade, does not, in our view, affect this finding.

Mr Ram’s evidence (given orally at the hearing) was that the reason for Micro’s presence in the supply chain was that Micro had an “account” at Fowler Oldfield Ltd, whereas the companies selling to it did not; and that Fowler Oldfield Ltd was responsible for “refining” the silver. We found it odd that this point was not made in Mr Ram’s witness statement; however, we are persuaded by the combination of Mr Ram’s oral testimony, and the corroborating documentary evidence pointed to by Micro’s counsel, that, on the balance of probabilities, Fowler Oldfield Ltd was responsible for refining the silver in the transactions; and that Micro did have an “account” with Fowler Oldfield in the sense that Micro could avail itself of Fowler Oldfield’s service of transacting in silver for “clients” of its who did not themselves (physically) hold the silver (on the basis that Fowler Oldfield Ltd was holding it, and marking changes of ownership by adjusting “accounts”). We are not persuaded, however, that this arrangement between Micro and Fowler Oldfield Ltd had anything to do with Micro’s longstanding business as a high street jewellers, or Mr Ram’s long experience in the jewellery trade. Rather, it was an aspect of Micro’s “getting into” the buying and selling of large amounts of precious metal from around 2013, that Micro entered into these arrangements with Fowler Oldfield Ltd (and, indeed, this was how Micro’s need to open “accounts” was explained to HMRC according to their note of their meeting with Micro on 3 May 2013).

In our view, having an “account” with Fowler Oldfield Ltd was not something “special” to Micro that explains why it earned a 1% margin for buying and immediately on-selling silver; this explains why it was an afterthought in Mr Ram’s evidence, rather than a centrepiece to explain the commercial rationale of Micro’s role. In our view, the evidence provides no good answer to the question of why Micro was in the supply chain, or indeed what it did to justify its (admittedly small) margin of 1%. We find that Micro’s 1% margin was, in realistic business terms, “money for nothing”.

Micro had been informed by HMRC, about two years before the purchases occurred, that the scrap metal market was “tainted” with VAT fraud; and Micro had been given HMRC literature which explained how to spot transactions connected with VAT fraud. HMRC had advised Micro to take care not to be caught in transactions connected with VAT fraud, to protect Micro’s own commercial interests. We do not accept that part of Mr Ram’s evidence which suggests that HMRC’s advice was that all Micro needed to do was confirm the company’s VAT registration number, or that HMRC’s advice was that the risk was confined to electronic goods or the like: Micro was told that the risks applied to all commodities, and that the checks to be made had to be substantive and meaningful.

We find that Micro did not heed HMRC’s advice in its dealings with the companies which sold to it in the purchases: the suppliers were found by “advertising on the internet”, Mr Ram said in evidence; we do not understand exactly what this entailed, but we infer that they were companies that Mr Ram, and Micro, were coming across for the first time, and of which they had no background knowledge; and yet the only checks Micro carried out were to confirm their VAT registration numbers, that they were registered at Companies House, and the identity of their managing director. Micro did not make meaningful enquiries to assure itself that these companies were not involved in VAT fraud.

In summary, the purchases and onward sales were, from Micro’s perspective, small-margin, “money for nothing” transactions, buying from companies of which Micro knew nothing of substance, in a business area divorced from Micro’s principal business as a high street jewellers; the transactions therefore bore a number of the tell-tale signs of connections with VAT fraud, of which Micro had been recently informed in its dealings with HMRC. In our view, there was no reasonable explanation for these circumstances other than that the purchases were connected with VAT fraud. It follows that Micro should have known this – and consequently, that this appeal falls to be dismissed.

For completeness, however, we state our view that, on the balance of probabilities, Micro did not actually know of the purchases’ connection with fraudulent VAT evasion. This seems to us a classic case of having, in Mobilx terms, the means at one’s disposal of knowing of that connection, but, in Micro’s case, choosing not to deploy those means. A reasonable business in Micro’s position and in the circumstances would have made the obvious inference of connection to VAT fraud – but, on the evidence before us, it seems Micro never did.

Following our conclusion set out at [65] above, the appeal must be dismissed.

This document contains full findings of fact and reasons for the decision. Any party dissatisfied with this decision has a right to apply for permission to appeal against it pursuant to Rule 39 of the Tribunal Procedure (First-tier Tribunal) (Tax Chamber) Rules 2009. The application must be received by this Tribunal not later than 56 days after this decision is sent to that party. The parties are referred to “Guidance to accompany a Decision from the First-tier Tribunal (Tax Chamber)” which accompanies and forms part of this decision notice.

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